Explain working capital requirements are estimated to remain

Assignment Help Financial Management

Reference no: EM13215096

Specialty Steel Products (SSP) is considering replacing some of its machinery with a new flexible machining center (FMC) that will permit it to respond more quickly to changes in the marketplace. The price of the new equipment is $1.2 million. Base your analysis on the following data contained in SSP's capital authorization request:

i. Because the new system will boost output quality significantly, it is estimated that SSP's annual sales will rise somewhat, from its current level of $1.7 million to $2.0 million annually for the next five years. The before-tax and before-depreciation profit margin on SSP's sales, old and new, is estimated at 40%.

ii. Working capital requirements are estimated to remain at 25% of sales

iii. The FMC will also cut overhead costs by $85,000 per yr for the next 5 yrs

iv. The old machinery was purchased for $1 million 3 yrs ago, and is being depreciated on a straight-line basis over its 5 year life. Its economic life as of today, however, is estimated to be 5 years. It can be sold for $300,000 today.

v. The FMC will be depreciated on a straight-line basis over its 5 yr life.

vi. SSP faces 40% corporate tax rate

vii. Given the relatively low risk of the revenue enhancement and cost savings, SSP estimates that the incremental cash flows generated by the FMC will have a cost of capital of only 12.0%, as compared to 14% for a typical company project. The risk-free interest rate is currently 8%.

viii. SSP will receive an investment tax credit equal to 10% of the purchase price of the FMC.

ix. The working capital will be recaptured at the end of 5 years.

a. What is SSP's net investment required in the FMC? Assume that both pieces of equipment are being depreciated to a zero salvage value?

b. What are the operating cash flows for each of the next years?

c. On the basis of the information supplied, should SSP replace its current equipment with the new system?

d. What questions might you raise about some of the assumptions implicit in SSP's capital authorization request?

Reference no: EM13215096

Questions Cloud

Relationship between critical thinking and ethics : What is the relationship between critical thinking and ethics?

Short-term or long-term goals must drive a decision : How would you determine when short-term or long-term goals must drive a decision

Determine the appropriate lease classification : Lewis Inc. began operations in January 2013. For certain of its property sales, Lewis recognizes income in the period of sale for financial reporting purposes. However, for income tax purposes, Lewis recognizes income when it collects cash from th..

Presbyterian and congregational ministers in general : As the Revolution approached, Presbyterian and Congregational ministers in general

Explain working capital requirements are estimated to remain : The old machinery was purchased for $1 million 3 yrs ago, and is being depreciated on a straight-line basis over its 5 year life. Its economic life as of today, however, is estimated to be 5 years. It can be sold for $300,000 today.

A person who is very careful about spending money : Thinking "a person who is very careful about spending money" when someone describes a person as "thrifty" represents a process called?

How does modified accrual basis of accounting differ acrual : What are the three sections of a comprehensive annual financial report (CAFR) What information is contained in each section How do the minimum requirements for general purpose external financial reporting related in scope to the CAFR

An unannounced osha inspection : An OSHA inspector arrives at your worksite requesting to talk with you about an inspection based on the health and safety complaints of a worker. You are in your office and the OSHA inspector is at the reception office.

Evaluating bfsi entry in the proposed foreign markets : Identify the key criteria and considerations that need to be taken into account in evaluating BFSI entry in the proposed foreign markets.

User Account

All Pages